Why buy a home with a reverse mortgage?

The most common reverse mortgage in America today is the FHA-insured home equity conversion mortgage, or HECM. The HECM is best known for enabling seniors to tap into the equity of a home they already own. Relatively few people know that a HECM can also be used to purchase a home.

HECM for purchase is a great way to buy a home because it enables you to finance a portion of the purchase with no mortgage payment. This offers you two big benefits:

You can avoid the mortgage payment while keeping more money in the bank to live on.

You can buy more home than what you could otherwise afford.

How HECM for purchase works

So how does the HECM for purchase work? It’s quite simple: you bring in your down payment plus closing costs and the bank finances the rest without a mortgage payment.

Your obligation is to pay the required property charges and live in the home. As long as at least one borrower (or non-borrowing spouse) is doing that, no payments or payback is required.

You remain the owner of the home and are free to leave it to your heirs, who will inherit the remaining equity in the home.

The HECM is a mortgage, so it has an annual interest rate like any other mortgage. HECM rates are pretty reasonable; they’re usually in line with traditional “forward” mortgage rates. If you don’t make any payments (which is the whole point, right?), the interest simply accrues onto the loan balance over time.

The HECM is a non recourse loan, which means the most that will ever have to be repaid is the value of the home. If the home isn’t worth enough to cover the entire balance at the time of repayment, the shortage is covered by FHA.

Sounds pretty straightforward, right? The part that gets a teensy bit more complicated is determining how much the bank will finance. Our reverse mortgage purchase calculator can easily crunch the numbers, but I think it’s worthwhile for unpack things a little more.

How your down payment is calculated

How much the bank will lend is determined by several factors, including purchase price, age of the youngest borrower (or non-borrowing spouse), current interest rates, and the HECM program you select (fixed-rate HECM or variable-rate HECM).

Older borrowers tend to qualify for more than younger borrowers. This means that older borrowers get to put down less than younger borrowers because the bank lends a greater portion of the purchase price to older borrowers.

The HECM also tends to offer more money when interest rates are low.

To see how this works, let’s take a look at a few examples using the reverse mortgage purchase calculator.

Reverse mortgage purchase calculator examples

Let’s assume for our first example that we have a borrower who is 70-years old and wants to purchase a $200,000 house. Let’s also assume that the current expected interest rate is 5.87%, which is realistic as of this writing.

If we run the numbers through the reverse mortgage purchase calculator, we see that our borrower qualifies for a principal limit of $94,400 based on his age, the purchase price of the home, and the expected interest rate of 5.87%.

The principal limit, or PL, is the total amount the bank is willing to finance. To complete the purchase, this borrower will need to bring to the table the difference between the principal limit and the purchase price plus closing costs. Assuming the closing costs are $8,000, the total down payment would be $113,600.

Now let’s assume we’re working with an 80-year old woman who is also purchasing a $200,000 house. If we assume the same expected interest rate and run the numbers through the calculator, we find that she qualifies for a principal limit of $110,200. As you can see, she qualifies for significantly more than our 70-year-old borrower, which means she gets to put down less. Assuming the closing costs are again $8,000, her total down payment would be $97,800.

You could pay cash, but why would you want to?

Let’s not miss the bigger picture here. Both of these borrowers could just put down the full purchase price in cash, pay some closing costs, and own the home outright without a mortgage payment.

But why would they want to? That would mean sinking a huge chunk of their liquid cash into illiquid home equity. Home equity is great to have, but it can’t be used for anything. You can’t take your home equity down to a nice restaurant for a steak dinner, right?

The HECM makes it possible to finance a large chunk of the purchase with no mortgage payment. This means you can keep more of your cash in the bank to live on while still avoiding a mortgage payment.

It’s important to have as much cash on hand as possible in retirement to cover unexpected expenses like medical bills, home repairs, and a rising cost of living. You don’t want most or all of your net worth locked up in home equity that can’t be used for anything.

Buying a house with a HECM also empowers you to buy more house than you could otherwise afford. In the old days, you would have to buy a home outright with cash to avoid a mortgage payment. That meant your spending budget was limited by the cash you had on hand. For example, if you had $300,000 cash and didn’t want a mortgage payment, you couldn’t spend any more than $300,000 for a house.

But what if you could finance half the purchase price with no mortgage payment? That means you could use the same $300,000 to buy a $600,000 house. That opens up a whole new world of options, doesn’t it? Realtors, are you catching this? 🙂

A great home purchase program

If you’re at least 62, the HECM for purchase program is a great way to buy a house because it enables you to finance part of the purchase without a mortgage payment. This means you can keep more of your money in the bank to finance your retirement lifestyle instead of sinking it into the house to avoid a mortgage payment. It also increases your purchasing power, which enables you to purchase more home than you could otherwise afford.